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Forecasting Net Charge-Off Rates of Large U.S. Bank Holding Companies using Macroeconomic Latent Factors

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  • Hyeongwoo Kim
  • Jisoo Son

Abstract

Charge-offs signal important information about the riskiness of loan portfolios in the banking system, which can generate systemic risk towards deep recessions. We compiled the net charge-off rate (COR) data of the top 10 bank holding companies (BHCs) in the U.S., utilizing consolidated financial statements. We propose factor-augmented forecasting models for CORs by estimating latent common factors, including targeted factors, via an array of data dimensionality reduction methods for a large panel of macroeconomic predictors. Our models outperform the benchmark models especially well for business loan CORs, while enhancing predictive contents for consumer loans are harder at short horizons. Real activity factors enhance the out-of-sample predictability for business loan CORs even when financial sector factors are excluded.

Suggested Citation

  • Hyeongwoo Kim & Jisoo Son, 2023. "Forecasting Net Charge-Off Rates of Large U.S. Bank Holding Companies using Macroeconomic Latent Factors," Auburn Economics Working Paper Series auwp2023-02, Department of Economics, Auburn University.
    • Handle: RePEc:abn:wpaper:auwp2023-02
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    More about this item

    Keywords

    Net Charge-Off Rate; Bank Holding Companies; Principal Component Analysis; Partial Least Squares; Out-of-Sample Forecast;
    All these keywords.

    JEL classification:

    • C38 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Classification Methdos; Cluster Analysis; Principal Components; Factor Analysis
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
    • C55 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Large Data Sets: Modeling and Analysis
    • G01 - Financial Economics - - General - - - Financial Crises
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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